Market Structure


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  • The intention of this slide is to demonstrate the principle of the kinked demand curve. The slide starts with the vertical and horizontal axes. A demand curve appears – relatively elastic and a price of £5 and q 100 appear. The explanation at this point would imply asking students what would happen if the producer increased price but nobody else in the industry followed? Hopefully students will see that the demand would fall significantly. By this stage students should be aware of the impact on total revenue as a result of this action. The next assumption rests on the firm facing an inelastic demand curve; in this case the firm believes that firms will follow suit in reducing price – the effect is to lead to only a small gain in sales – total revenue would again fall. Assuming the two characteristics would suggest a kinked demand curve and price stability existing in the industry with the likely outcome being non-price comptition.
  • Market Structure

    1. 1. 2005 – Biz/edMarket Structures
    2. 2. 2005 – Biz/edMarket Structures• Type of market structureinfluences how a firm behaves:– Pricing– Supply– Barriers to Entry– Efficiency– Competition
    3. 3. 2005 – Biz/edMarket Structures• Degree of competition in theindustry• High levels of competition –Perfect competition• Limited competition – Monopoly• Degrees of competition in between
    4. 4. 2005 – Biz/edMarket Structure• Determinants of market structure– Freedom of entry and exit– Nature of the product – homogenous(identical), differentiated?– Control over supply/output– Control over price– Barriers to entry
    5. 5. 2005 – Biz/edMarket Structure• Perfect Competition:– Free entry and exit to industry– Homogenous product – identical so noconsumer preference– Large number of buyers and sellers – noindividual seller can influence price– Sellers are price takers – have to accept themarket price– Perfect information available to buyers andsellers
    6. 6. 2005 – Biz/edMarket Structure• Examples of perfect competition:–Financial markets – stockexchange, currency markets,bond markets?–Agriculture?• To what extent?
    7. 7. 2005 – Biz/edMarket Structure• Advantages of Perfect Competition:• High degree of competition helpsallocate resources to most efficient use• Price = marginal costs• Normal profit made in the long run• Firms operate at maximum efficiency• Consumers benefit
    8. 8. 2005 – Biz/edMarket Structure• What happens in a competitiveenvironment?– New idea? – firm makes short termabnormal profit– Other firms enter the industry to takeadvantage of abnormal profit– Supply increases – price falls– Long run – normal profit made– Choice for consumer– Price sufficient for normal profit to be madebut no more!
    9. 9. 2005 – Biz/edMarket Structure• Imperfect or Monopolistic Competition– Many buyers and sellers– Products differentiated– Relatively free entry and exit– Each firm may have a tiny ‘monopoly’because of the differentiation of theirproduct– Firm has some control over price– Examples – restaurants, professions –solicitors, etc., building firms – plasterers,plumbers, etc.
    10. 10. 2005 – Biz/edMarket Structure• Oligopoly – Competition amongstthe few– Industry dominated by small number of large firms– Many firms may make up the industry– High barriers to entry– Products could be highly differentiated – branding orhomogenous– Non–price competition– Price stability within the market - kinked demandcurve?– Potential for collusion?– Abnormal profits– High degree of interdependence between firms
    11. 11. 2005 – Biz/edMarket Structure• Examples of oligopolisticstructures:– Supermarkets– Banking industry– Chemicals– Oil– Medicinal drugs– Broadcasting
    12. 12. 2005 – Biz/edMarket Structure• Measuring Oligopoly:• Concentration ratio – the proportionof market share accounted for by top Xnumber of firms:– E.g. 5 firm concentration ratio of 80% -means top 5 five firms account for 80% ofmarket share– 3 firm CR of 72% - top 3 firms account for72% of market share
    13. 13. 2005 – Biz/edMarket Structure• Duopoly:• Industry dominated by two largefirms• Possibility of price leader emerging– rival will follow price leaderspricing decisions• High barriers to entry• Abnormal profits likely
    14. 14. 2005 – Biz/edMarket Structure• Monopoly:• Pure monopoly – industry is thefirm!• Actual monopoly – where firm has>25% market share• Natural Monopoly – high fixedcosts – gas, electricity, water,telecommunications, rail
    15. 15. 2005 – Biz/edMarket Structure• Monopoly:– High barriers to entry– Firm controls price OR output/supply– Abnormal profits in long run– Possibility of price discrimination– Consumer choice limited– Prices in excess of MC
    16. 16. 2005 – Biz/edMarket Structure• Advantages and disadvantages ofmonopoly:• Advantages:– May be appropriate if natural monopoly– Encourages R&D– Encourages innovation– Development of some products not likelywithout some guarantee of monopoly inproduction– Economies of scale can be gained –consumer may benefit
    17. 17. 2005 – Biz/edMarket Structure• Disadvantages:– Exploitation of consumer – higherprices– Potential for supply to be limited -less choice– Potential for inefficiency –X-inefficiency – complacencyover controls on costs
    18. 18. 2005 – Biz/edMarket StructureKinked Demand CurvePriceQuantityD = elasticD = Inelastic£5100Kinked D Curve